How is international business governed?

How is international business governed? Contemporary business governance is characterised by a variety of governance modes, depending what philosophy you subscribe to, while the industry an economic context also matters. To begin with I will attempt to present a few of the business governance modes that come to my mind and empirical examples; following this I have chosen to compare the governance modes of the Global Value Chain with that of International Organisations, including further aspects and where they derive their legitimacy from. Global Value Chains The concept of Global Value Chains (GVCs) was first presented by Gereffi in the 1990 s, initially in an attempt to describe the dynamics of the development in which an increasing number of companies were outsourcing their production to remote regions, a something that international business strategy had already explained sought to explained the rationale behind. Gereffi uncovered how products was no longer merely produced in one country and sold in another. The development had gone beyond this; product parts were now sourced from different regions, each specialising in parts of the productions, assembled in another and sold in a third region. This development had allowed companies to take advantage of local skills, but most importantly it also allowed them to diversify their production based on where it was cheapest to produce. The second production unbundling had taken place. However, most important to our discussion at hand Gereffi identified two different types of GVCs, each characterised by their own mode of governance. Production-driven value chains were characterised by large enterprises in industries with high barriers to entry such as automobiles and aviation. In these industries the enterprises would seek to integrate vertically in order to ensure quality and maintain the tacit knowledge within the company. They leveraged their production size when sourcing raw materials and opened in-house production facilities across the World in accordance with previously-mentioned principles. Contrary in buyer-driven value chains companies would outsource production to independent contractors in the preferred regions, while maintaining high value-adding activities in their home countries (such as R&D, design, and marketing). Once again they could leverage their large production orders to force the producers down in price. It would often be industries with low-barriers to enter and a low degree of tacit knowledge that was engaged in buyer-driven value chains. What both value chains have is common though, is that lead firms can be identified within each GVC. Lead firms are characterised as standard setters within their own industries and possess enormous power in the GVC. Should they decide to change regions for production, or are they affected by economic slowdown, this will impact the entire value chains and all the companies who engage themselves in it. Therefore, they possess much of the governance power. ComputerName: AS1C-034 Page 1 of 7

It is worth noting that GVC-theory has undergone quite a theoretical development since Gereffi first presented it, however, I will elaborate on this later on in the essay. Global Wealth Chains Global Wealth Chains (GWCs) are to a large extend modelled after the concept of GVCs, and has been the topic of much research from Leonard Seabrooke and Duncan Wigan, both CBS researchers. However, the need from GWCs is explained by the fact that today s international business is increasingly composed by trade in services; take Google Ads as an example. These services are not a labour intensive as production industries, which have diminished the effect of outsourcing production. Instead companies have turned to administrating their wealth and finances in more creative ways. Rather than looking at where production takes place, companies now seek to minimise their taxes and tariffs they have to pay, by creating complex chains of wealth. GWCs is perhaps best illustrated by the example of an ad purchased by an Australian company from Google Ads based in Ireland. Google Ireland in turn purchases that ad from a sister-company in the Netherlands, who in turn purchases it from Google Ireland again, this way making the ad exempt from value-added taxes and tariffs because it has been purchased inside the European Union. Lastly, the income is accounted for in a company in Bermuda, a tax-heaven. This way Google has minimised its expenses. Trans Hybrid Governance Previously IPE discussions often focussed on how national states exercised control of business, either through national policies or International Organisations (IOs). However, recent developments go to show that business increasingly take ownership of the governance models, and are allowed to do so, while NGO s are also making their way to the governance table. This development has come to be known as Trans Hybrid Governance, in which one actor can no longer define how businesses are governed, but instead has to negotiate with a variety of other actors. The development is also relevant to later discussions on IOs in this essay s analytical part. International Organisations International Organisations (IOs) can exercise control of business governance through either soft or hard control. Which way IOs decide to exercise control depends on their mandate, enforcement tools at its disposal, the particular situation and objective, and of course what its members will agree to through its own particular governance model. Soft control is characterised by few and weak or no tools at all to enforce the control, other than loss of reputation. Examples of this are different types of code of conduct, such as the UN Global Compact, which business subscribe to voluntarily. However, IOs can often be stuck with this as the only viable solution, if it is all its members can agree to, as it is shown in Broome & Seabrooke s Seeing like an International Organisation. ComputerName: AS1C-034 Page 2 of 7

Contrary hard control is easier to enforce, thus also entails a lower degree of national autonomy which national states often oppose, but can agree to in the case of Parato effects or when the costs of not complying exceed those of doing so. Examples of hard control can often be found in IMF s policies, where states have witnessed the Parato effect when joining, but may experience costly and unpopular policies at a later stage. Another interesting thing about IO s way of exercising governance is how policies are formulated. Ideally policies help members to achieve their own policy objectives, however, as Broome & Seabrooke show IOs can also become independent actors in themselves, or bureaucracies can evolve to be dysfunctional as Barnett & Finnmore have shown. Embedded in this discussion is also a discussion around the scientific philosophy of realism, liberalism and constructivism in international politics. These discussions will also be elaborated at a later stage in this essay. Policy Network The basic idea behind the governance model of policy network is that international business today is governed by groups of networks that are interconnected. The policy networks are rarely, if ever, able to adopt coercive legislation, but instead exercise their influence by facilitating exchange of ideas and reward of certain merits. A major point of critique of this governance model is that it is subtle and informal, which leaves it outside the public view and influence. Leonard Seabrooke s mapping of employees in IMF goes to show how powerful policy networks can be. It showed that persons who, prior to being employed in IMF, had worked in the financial sector, were promoted and rose in ranks faster than other employees, such as persons coming from an NGO background. This goes to show how certain merits (in this case financial experience and their worldview) are promoted more than others, but it also shows that being a member of one network will allow you to access other networks easier. Other examples of policy networks worth mentioning is the World Economic Forum, which is taking place just now, where business leaders effectively purchase influence by accepting huge membership fees, which in turn allows them to meet with policy leaders in Davon. National policy spaces Last, but not least, states are of course still left with the option governing international business through national legislation. Governments have a number of tools at their disposal, which are also linked with other governance modes mentioned previously, such as increasing trade tariffs, exercising capital control or adjusting the interest rate. Two recent examples of national policy spaces worth mentioning are the Danish case when the Danish Krone was attacked, and the recent Chinese intervention in the stock market. In the first case international investors started speculating that the Danish Krone was undervalued due to its peg to the Euro, leading to massive investments, forcing the Danish Central Bank to defend the Krone through quantitative easing and a negative interest rate. In the Chinese example panics in the Chinese stock ComputerName: AS1C-034 Page 3 of 7

market led the authorities to intervene and limit major shareholders options of selling stocks at one time. Comparing GVCs and IOs In comparing the two modes of governance it is interesting to look at how control is exercised and where the actors derive their legitimacy in doing so from. First, I will analyse each mode independently, before analysing the failed attempt at economic and social development in Zimbabwe comparatively. International Organisations IOs supposedly derive their legitimacy to operate from the mandate they have been given my their members (often states), and the decisions and control the exercise over the organisation through its internal governance system; The UN has its Charter and General Assembly, while IMF has its Executive Board that has to agree to all loan facilities. This form of governance emulates the one we know from state democracies in order to achieve legitimacy. Realists like Keohane will argue that IOs are vessels which merely serve to achieve its member s national policy objectives. IOs, in this view, are only created when we witness a Parato effect, or when the alternative, war, is less desirable. Following this perspective we could argue that IOs thus extend their member s legitimacy in all their actions. The realists argument is to some extend supported by the fact that IOs can be seen as the creation of the former colonial powers, who this today still engage themselves in a wide variety of IOs. However, subscribing to a constructivist approach to IOs, like in Broome & Seabrooke in their Seeing like an International Organisation, makes it apparent that IOs are not only empty vessels to obey instructions from its member s, but rather they develop their own policy objectives and rationales that may sometimes conflict with those of its members. A recent example worth mentioning, though not directly related to business, is that of the European Commission s dealings with the refugee situation in Europe, in which it argues a distribution mechanisms is needed, all the while some of its members are very outspokenly against it. In Broome & Seabrooke s view the key to understand how IOs develop their own thoughts and objective, is to analyse and understand the analytic institutions that are part IOs, or who IOs support. Often, it is the decisions and ideas developed in these institutions that will spread to the rest of the organisation and ultimately make up the policies and worldview that the IOs advocate. This understanding is particularly interesting when coupled with Barnett & Finnmore s into dysfunctional bureaucracies and pathologies in IOs. One argument is that exactly because IOs are expected to behave in a neutral manner, they are forced to develop general worldviews, which allow for generic policy recommendations. In their own article they use the transfer of UN Peacekeeping personnel from Cambodia and the Former Republic of Yugoslavia, and its disastrous consequences, but the Washington Consensus also makes up an example of generic policies. ComputerName: AS1C-034 Page 4 of 7

Finishing up on the elaboration on IOs it is worth comparing this mode of governance to Trans Hybrid Governance. Looking back in time IOs were very much reserved for its own members, as witnessed for instance by the WTO protests in the late 90 s, and the formulation of the UN Millennium Development Goals. However, in a move to increase its legitimacy (and implementation success) IOs have increasingly opened themselves to the outside world, inviting key NGO s and businesses to join them in policy processes (either in formal meetings or through analytical institutions), as perhaps best illustrated by the recent post-2015 formulating the Sustainable Development Goals. Global Value Chains GVC theory has developed a lot since Gereffi s initial articles on the topic. GVC has come to be seen as instrumental in understanding today s trade, where traditional export statistics are no longer meaningful in showing a given country s position in international business. A theoretic development in GVC has been the division of different forms of value chains. Gereffi s initial presentation on GVCs only encapsulated two forms; a market form and a hierarchical form. However, these two forms alone have proven inefficient in explaining GVCs like the iphone where Taiwanese Foxconn is contracted to produce the majority of the phone and sources items from Apple competitors. GVC has now also come to be seen as a way for developing countries to develop their own economy and support social development too. This idea of up- and downgrading is presented by Cattaneo, Gereffi, Miroudot & Taglioni, which show different ways in which countries can choose to upgrade, just like Stafano Ponte applies the theory to the wine industry in South Africa. The smile-curve is essential in understanding upgrading from the point of GVC; it shows that most value is added at the start and end of a value-chain, while the middle nodes do not add much. Thus, you want to position you in one of the ends, or dramatically increase quantity in the middle. When it comes to development and upgrading, in the view of GVC theory, the state has to follow the needs of the industry, while the domestic industry is also often forced to adapt to lead firms in the GVC they engaged themselves in. When lead firms decide how they to organise their GVC they do so based on where they get the highest quality product at the best price, following the objective outlined in the theory of the firm. In other words, lead firms derive their legitimacy to recommend, and some extend enforce, policy recommendations based on their objective to maximise profit and shareholder return. Lead firms looking to place parts of their value chain in new countries will look for the conditions as was previously outlined in the Washington consensus: easy access to import and export goods, competitive markets, flexible qualified worker, free of corruption, access to financing, respect of ownership, and so on. These conditions are generally agreed to help to maximise the profit of the firm. In finishing with the GVCs it is important to mention that firms increasingly not only derive legitimacy from their ability to maximise profit, but also have to act in a sustainable manner. This is shown by the emergence of Corporate Social Responsibility strategies, as well as the success of UN Global Compactprogramme. However, relevant to the case of Zimbabwe these forms of legitimacy are more prevalent in developed countries, though they are spreading slowly to firms in developing countries. ComputerName: AS1C-034 Page 5 of 7

The failed attempt at upgrading in Zimbabwe I have chosen to compare the two modes of business governance by applying them to the failed case of upgrading in Zimbabwe. I am aware that the case was not described in the course readings, but we did discuss it in class, and I feel it encompasses interesting lessons and future opportunities, owing to the resources that Zimbabwe possesses. Raw materials like gold and diamonds, and previously asbestos, are at the core of Zimbabwe s economy. A large number of licenses to extract the materials were handed out during the times of Rhodesia, and following independence. However, many of these private licenses and mines were nationalised throughout the 80 s in an attempt from Mugabe to get the land and materials back into local (and some would argue Sjona, the tribe Mugabe himself is from) hands. After being nationalised the mines started operating with deficits, just as it was discovered that asbestos could cause cancer. The result, coupled with poor access to education, high barriers to export/important, and of course corruption) was an economy spiralling out of control. The IMF and World Bank advisors were ready with the solution very much in line with the Washington Consensus: Zimbabwe needed to reprivatize the mining industry, decrease barriers to important/export, and reduce public spending in order to balance the budgets. The IMF drew its legitimacy in requiring this form its Executive Board, who would only approve the loan on very harsh conditions, all the while the mining corporations were calling for the same conditions if they were to enter into business in the country. Ultimately Zimbabwe had no choice than to follow the recommendations. The situation today is as one could have feared: foreign investors, mostly South African, Australian and Chinese, have scooped up all the mines and export the raw materials (without processing) to neighbouring South Africa. Next to no taxes are paid in Zimbabwe, and the budget deficits have led the Government to cut spending to education and infrastructure, capturing Zimbabwe in a bad spiral. Modern theory about GVCs and IOs both offer good explanations to what went wrong, rather than the obvious issue of corruption. Looking from the perspective of GVC and upgrading, it is obvious that Zimbabwe, by providing raw materials, is in the lucrative end of the smile curve. However, one of Zimbabwe s main problems has been that is has not managed to create favourable conditions for the companies to do much more than extract the materials in Zimbabwe. Instead, Zimbabwe could have sought to integrate further in the value chain by providing the initial processing in the country as well, which would have been in line with recent developments of companies seeking to consolidate their value chains. IMF s, and with them the IOs, failure in this case was the generic solution that did not take the local context into consideration. This is the same shortfall as both Barnett & Finnmore locate in their writings on dysfunctionalities of bureaucracies in IOs. Had the IMF instead invested energy in understanding the value of assets already inside the country, and how these could be refined, Zimbabwe could have been in better position in which a regular material flight had not taken place. ComputerName: AS1C-034 Page 6 of 7

Looking forward both GVC and IO-theory indicates further challenges to Zimbabwe, in that it is not socially embedded with any other strong economies. Though it does have South Africa has a neighbour the two countries disown each other. Instead, ironically, Zimbabwe has sought social embeddedness with China, which brings us to the other issue mentioned previously that most non-western firms still solely derive their legitimacy from the theory of the firm, leading to unsustainable business practices that do not benefit the broader Zimbabwean economy and social upgrading. In summary, Zimbabwe is left in a worse position than before IMF s involvement in the country, and before meeting the demands from foreign companies. This coupled with the continuing lack of democracy and solid fiscal policies do pose a challenge to the Zimbabwean economy. In accordance with GVC theory Zimbabwe could now consider if raw materials should remain the backbone of its economy, or if they should start to seek integration into other value chains, building on the experiences of capital flight that they have so painfully accumulated over the past 25 years. ComputerName: AS1C-034 Page 7 of 7